CASE 1040 Ethics and the Manager [LO7 Q1 Lance Prating is the controller of the Colchester manufacturing facility of Tech Systems Incorporated. Among the many reports that must be filed with corporate headquarters is the annual overhead performance report. The report covers the year that ends on December 31 and is due at corporate headquarters shortly after the beginning of the new year. Prating does not like putting work off until the last minute, so just before Christmas, he put together a preliminary draft of the overhead performance report. Some adjustments would later be required for the few transactions that occur between Christmas and New Year's Day. A copy of the preliminary draft report, which Prating completed on December 21, is shown below: Page 443 COLCHESTER MANUFACTURING FACILITY Overhead Performance Report December 21 Preliminary Draft Budgeted machine-hours 100,000 Actual machine-hours 90,000 Cost Formula (per machine-hour) Actual Costs for 90,000 Machine- Hours Flexible Budget Based on 90,000 Machine- Hours Spending or Budget Variance Overhead Costs Variable overhead costs: Power $0.03 $ 2,840 $ 2,700 $ 140 U Supplies 0.86 79,060 77,400 1,660 U Abrasives 0.34 32,580 1,980 U 30,600 | 110,700 $1.23 114,480 _3,780 U Fixed overhead costs: Depreciation 228,300 226,500 1,800 U Supervisory salaries 187,300 189,000 1,700 F Insurance 23,000 23,000 0 Industrial engineering 154,000 160,000 6,000 F Factory building lease 46,000 46,000 0 Total fixed overhead cost |_ 638,600 |_ 644,500 5,900 F Total overhead cost $753,080 $755,200 $ 2,120 F Tab Kapp, the general manager at the Colchester facility, asked to see a copy of the preliminary draft report at 4:45 p.m. on December 23. Prating carried a copy of the report to Kapp's office, where the following discussion took place: Kapp: Wow! Almost all of the variances on the report are unfavourable. The only thing that looks good at all are the favourable variances for supervisory salaries and for industrial engineering. How did we have an unfavourable variance for depreciation? Prating: Do you remember that milling machine that broke down because the wrong lubricant was used by the machine operator? Kapp: Only vaguely. Prating: It turned out we couldn't fix it. We had to scrap the machine and buy a new one. Kapp: This report doesn't look good. I was raked over the coals last year when we had just a few unfavourable variances. Prating: I'm afraid the final report is going to look even worse. Kapp: Oh? Prating: The line item for industrial engineering on the report is for work we hired Klein Engineering to do for us on a contract basis. The original contract was for $160,000, but we asked them to do some additional work that was not in the contract. Under the terms of the contract, we have to reimburse Klein Engineering for the costs of the additional work. The $154,000 in actual costs that appear on the preliminary draft report reflects only their billings through December 21. The last bill they had sent us was on November 28, and they completed the project just last week. Yesterday I got a call from Maria over at Klein and she said they would be sending us a final bill for the project before the end of the year. The total bill, including the reimbursements for the additional work, is going to be... Kapp: I am not sure I want to hear this. Prating: ... $176,000. Kapp: Ouch! Prating: The additional work we asked them to do added $16,000 to the cost of the project. Kapp: No way can I turn in a performance report with an overall unfavourable variance. They'll really get on my back at corporate headquarters. Call Maria at Klein and ask her not to send the bill until after the first of the year. We have to have that $6,000 favourable variance for industrial engineering on the performance report. Required: What should Lance Prating do? Explain. CASE 1040 Ethics and the Manager [LO7 Q1 Lance Prating is the controller of the Colchester manufacturing facility of Tech Systems Incorporated. Among the many reports that must be filed with corporate headquarters is the annual overhead performance report. The report covers the year that ends on December 31 and is due at corporate headquarters shortly after the beginning of the new year. Prating does not like putting work off until the last minute, so just before Christmas, he put together a preliminary draft of the overhead performance report. Some adjustments would later be required for the few transactions that occur between Christmas and New Year's Day. A copy of the preliminary draft report, which Prating completed on December 21, is shown below: Page 443 COLCHESTER MANUFACTURING FACILITY Overhead Performance Report December 21 Preliminary Draft Budgeted machine-hours 100,000 Actual machine-hours 90,000 Cost Formula (per machine-hour) Actual Costs for 90,000 Machine- Hours Flexible Budget Based on 90,000 Machine- Hours Spending or Budget Variance Overhead Costs Variable overhead costs: Power $0.03 $ 2,840 $ 2,700 $ 140 U Supplies 0.86 79,060 77,400 1,660 U Abrasives 0.34 32,580 1,980 U 30,600 | 110,700 $1.23 114,480 _3,780 U Fixed overhead costs: Depreciation 228,300 226,500 1,800 U Supervisory salaries 187,300 189,000 1,700 F Insurance 23,000 23,000 0 Industrial engineering 154,000 160,000 6,000 F Factory building lease 46,000 46,000 0 Total fixed overhead cost |_ 638,600 |_ 644,500 5,900 F Total overhead cost $753,080 $755,200 $ 2,120 F Tab Kapp, the general manager at the Colchester facility, asked to see a copy of the preliminary draft report at 4:45 p.m. on December 23. Prating carried a copy of the report to Kapp's office, where the following discussion took place: Kapp: Wow! Almost all of the variances on the report are unfavourable. The only thing that looks good at all are the favourable variances for supervisory salaries and for industrial engineering. How did we have an unfavourable variance for depreciation? Prating: Do you remember that milling machine that broke down because the wrong lubricant was used by the machine operator? Kapp: Only vaguely. Prating: It turned out we couldn't fix it. We had to scrap the machine and buy a new one. Kapp: This report doesn't look good. I was raked over the coals last year when we had just a few unfavourable variances. Prating: I'm afraid the final report is going to look even worse. Kapp: Oh? Prating: The line item for industrial engineering on the report is for work we hired Klein Engineering to do for us on a contract basis. The original contract was for $160,000, but we asked them to do some additional work that was not in the contract. Under the terms of the contract, we have to reimburse Klein Engineering for the costs of the additional work. The $154,000 in actual costs that appear on the preliminary draft report reflects only their billings through December 21. The last bill they had sent us was on November 28, and they completed the project just last week. Yesterday I got a call from Maria over at Klein and she said they would be sending us a final bill for the project before the end of the year. The total bill, including the reimbursements for the additional work, is going to be... Kapp: I am not sure I want to hear this. Prating: ... $176,000. Kapp: Ouch! Prating: The additional work we asked them to do added $16,000 to the cost of the project. Kapp: No way can I turn in a performance report with an overall unfavourable variance. They'll really get on my back at corporate headquarters. Call Maria at Klein and ask her not to send the bill until after the first of the year. We have to have that $6,000 favourable variance for industrial engineering on the performance report. Required: What should Lance Prating do? Explain